ITO, Wd-2(3), Kolkata, Kolkata V. M/s ITC Infotech India Ltd., Kolkata

ITA 550/KOL/2014

• Counselvise Citation: [2018] 119 COUNSELVISE.COM (IT) 0165 (ITAT-KOLKATA)
• Duration Of Justice: 4 year(s) 8 month(s) 8 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 05-12-2018
• Appeal Filed By: Department
• Order Result: Dismissed
• Bench Allotted: C
• Next Hearing Date: 23-05-2017
• Assessment Year: 2007-2008
• Appeal Filed On: 27-03-2014
• Result in Favour of: Assessee
• Court: TRIBUNAL
• Department Lawyers: SANJOY PAUL
• Assessee Lawyers: J P KHAITAN SR
• Keywords: Transfer pricing; Question of law; Capital expenditure
• Section: 37(1); 12A; 37

Judgement Text

1 ITA NO. 550/KOL/2014 I.T.C. INFOTECH INDIA LTD., AY 2007-08 , C , IN THE INCOME TAX APPELLATE TRIBUNAL C BENCH: KOL KATA ( ) BEFORE . . , /AND . , ) [BEFORE SHRI A. T. VARKEY, JM & SHRI M. BALAGANESH , AM] I.T.A. NO. 550/KOL/2014 ASSESSMENT YEAR: 2007-08 INCOME-TAX OFFICER, WD-2(3), KOLKATA VS. I.T.C. INF OTECH INDIA LTD. (PAN: AAACI7376Q) APPELLANT RESPONDENT DATE OF HEARING 22.11.2018 DATE OF PRONOUNCEMENT 05.12.2018 FOR THE APPELLANT SHRI SANJOY PAUL, ADDL. CIT, SR. DR FOR THE RESPONDENT SHRI J. P. KHAITAN, SR. COUNSEL ORDER PER SHRI A.T.VARKEY, JM THIS APPEAL PREFERRED BY THE REVENUE IS AGAINST THE ORDER OF THE LD. CIT(A)-VI, KOLKATA DATED 27.12.2013 FOR AY 2007-08. 2. THE FOLLOWING EFFECTIVE GROUND NOS. 1 AND 2 RAIS ED BY THE REVENUE READ AS UNDER: 1. THAT ON THE FACT AND CIRCUMSTANCES OF THE CASE THE LD. CIT(A), BY DELETING THE TRANSFER PRICING ADJUSTMENT OF RS.5,73,70,465/-, FAILED TO A PPRECIATE THAT ARMS LENGTH PRICING ADJUSTMENT WAS NOT ARBITRARY BUT IS A BENCHMARK DET ERMINED ON SIMILAR INSTANCES. 2. THAT ON THE FACTS AND CIRCUMSTANCES OF THE CASE LD. CIT(A) ERRED IN DELETING THE ADDITION OF RS.35,41,376/- (RS.76,55,910/- MINUS RS.41,14,534/- ) MADE ON PURCHASE OF SOFTWARE WRONGLY INTERPRETING IT AS AN EXPENSE REVENUE IN NATURE WHE REAS THE EXPENDITURE IS OF CAPITAL NATURE. 3. COMING TO GROUND NO.1. AT THE OUTSET ITSELF THE LD. SR. COUNSEL FOR THE ASSESSEE SUBMITTED THAT THE ISSUE RAISED IN GROUND NO.1 OF T HE REVENUE IS NO LONGER RES INTEGRA. ACCORDING TO HIM, THIS ISSUE HAS ALREADY CROPPED UP IN AYS 2005-06 AND 2006-07 AND THE TRIBUNAL IN ASSESSEES OWN CASE FOR THESE ASSESSMEN T YEARS IN ITA NOS. 2222 & 2223/KOL/2010 WAS PLEASED TO UPHOLD SIMILAR ACTION OF THE LD CIT (A) AND AGAINST THE SAME 2 ITA NO. 550/KOL/2014 I.T.C. INFOTECH INDIA LTD., AY 2007-08 THE REVENUE PREFERRED AN APPEAL BEFORE THE HONBLE HIGH COURT WHICH HAS BEEN DISMISSED BY THE HONBLE HIGH COURT IN GA NO. 2314 OF 2015 BY OR DER DATED 08.01.2016 AND THUS HONBLE HIGH COURT CONFIRMED THE ORDER OF THE TRIBU NAL. WE NOTE THAT THE TRIBUNAL IN ASSESSEES OWN CASE WHEREIN THE LD. CIT(A) HAD DELE TED THE ADDITION MADE BY THE AO/TPO AS PER THE TRANSFER PRICING ADJUSTMENT MADE BY THEM , WAS CHALLENGED BY THE REVENUE BEFORE THIS TRIBUNAL FOR AYS. 2005-06 AND 2006-07 WHEREIN THE TRIBUNAL UPHELD THE ACTION OF LD. CIT(A) BY HOLDING AS UNDER: 13. WE NOTED FROM FACTUAL ASPECTS OF THE CASE THA T THE TPO PERCEIVED THAT FUNCTIONAL AND RISK PROFILE OF THE ASSESSEE AND ITS AES ARE DIFFERENT I N BOTH THE BUSINESS MODELS WHEREIN THE ASSESSEE ASSUMES LARGER SHARE OF RISKS WHEN CONTRAC TS ARE ENTERED BY IT WITH CUSTOMERS (BUSINESS MODEL-I) AS COMPARED TO ARRANGEMENTS WHER EIN THE AES EXECUTES THE CONTRACT WITH CUSTOMER (BUSINESS MODEL-II). THE TWO BUSINESS MODE LS ARE OPTICALLY DIFFERENT (IN TERMS OF CONTRACTUAL PARTY), BUT THE FUNCTIONAL AND RISK PRO FILE OF BOTH THE ASSESSEE AND ITS AES REMAIN ITA NO. 2222 & 2223/KOL/10 ITC INFOTECH INDIA .LTD 15 THE SAME IN BOTH THE MODELS, WHICH IS EVIDENT NOT ONLY FROM THE TERMS OF THE MSA BUT ALSO FROM THE CONDUCT OF THE PARTIES. THE ASSESSEE HAS EXPLAINED THE BUSINESS MODEL FOLLOWED BY IT ALONG WITH ITS FUNCTIONAL AND RISK PROFILE. THE ASSESSEE EXPLAINED THE GLOBAL DELIVER Y MODEL AS ADOPTED AND FORMING THE VERY BASIS OF TWO ALTERNATIVE INTER-COMPANY INVOICING MO DELS. THE BUSINESS MODEL FOLLOWED BY THE ASSESSEE AND 12A/12B IS SUMMARISED BELOW:- MODEL I WHERE THE CUSTOMER DIRECTLY ENTERS INTO T HE CONTRACT WITH THE RESPONDENT; AND MODEL II WHERE THE CUSTOMER DIRECTLY ENTERS INTO THE CONTRACT WITH 12A/12B THE ASSESSEE EXPLAINED THE ECONOMIC SUBSTANCE UNDER LYING THE TWO ARRANGEMENTS, THE ROLES AND RESPONSIBILITIES AND THE FUNCTIONAL PROFILE OF THE ASSESSEE AS WELL AS THAT OF ITS AES 12A/12B. FURTHER, IT EXPLAINED THAT INTER-COMPANY I NVOICING AGREEMENTS AND CONTRACTUAL TERMS ENTERED WITH THE AES. UNDER BOTH THE BUSINESS MODEL, THE BASIC FUNCTIONS OF THE SUBSIDIARIES, WITH REGARD TO THE ADMINISTRATIVE FUN CTIONS I.E. ACCOUNT MANAGEMENT, ARE SAME. ON THE OTHER HAND, ASSESSEE IS PERFORMING NON-ADMIN ISTRATIVE FUNCTIONS UNDER BOTH THE BUSINESS MODELS AND THUS ENTIRE RISKS WITH REGARD T O NON-ADMINISTRATIVE SERVICES ARE BEING BORNE BY THE ASSESSEE IRRESPECTIVE OF THE BUSINESS MODEL. FURTHERMORE, IT WAS ALSO EXPLAINED THAT CUSTOMERS ENTER INTO CONTRACT WITH EITHER ASSE SSEE OR 12A/12B WITH THE BASIC UNDERSTANDING THAT THE ACTIVITIES/SERVICES IN CONNE CTION WITH DEVELOPMENT OF THE ASSIGNMENT/PROJECT WOULD BE ESSENTIALLY DRIVEN BY A SSESSEE IN ADHERENCE WITH VARIOUS COMMERCIAL AND TECHNICAL QUALIFICATION PARAMETERS/N ORMS SPECIFIED BY THE CUSTOMER NAMELY SHARE CAPITAL, AVERAGE REVENUE OVER A PERIOD OF TIM E, BRAND VALUE, REPUTATION IN THE MARKET, TRACK RECORD OF SUCCESSFUL PROJECT, VAST AND EXPERI ENCED RESOURCE POOL WITH EXPERTISE IN VARIOUS AREAS OF WORK, ETC. HENCE, THE ESSENTIAL FA CTOR FOR AWARDING A SERVICE CONTRACT WOULD ALWAYS BE TECHNICAL AND COMMERCIAL EXPERTISE AND EX PERIENCE OF THE ASSESSEE IN HANDLING SUCH SIMILAR PROJECTS. THE LOCAL PRESENCE OF THE AES OR IT STAND-ALONE FINANCIAL OR TECHNICAL CAPABILITIES HARDLY INFLUENCE THE DECISION OF THE C USTOMER TO SIGN THE AGREEMENT WITH THE AES. THE ASSESSEE STATED THAT THE POSSIBILITY OF A CUSTO MER RAISING ANY CLAIM FOR DEFICIENCY IN ADMINISTRATIVE SERVICES ARE VERY REMOTE, AS THEY AR E RENDERED TO THE ASSESSEE AS AN INTERNAL ARRANGEMENT AND THE CUSTOMERS ARE NOT AFFECTED BY I T. ONLY POSSIBILITY OF ANY CUSTOMER RAISING A CLAIM WOULD BE IN RESPECT OF NON-ADMINISTRATIVE S ERVICES WHICH ARE EXCLUSIVELY PROVIDED BY ITA NO. 2222 & 2223/KOL/10 ITC INFOTECH INDIA .LTD 16 THE ASSESSEE IRRESPECTIVE OF THE 3 ITA NO. 550/KOL/2014 I.T.C. INFOTECH INDIA LTD., AY 2007-08 BUSINESS MODEL. IT WAS ALSO EMPHASISED THAT IT IS T HE ASSESSEE, WHICH HAS ADEQUATE CAPITAL AND TECHNICAL EXPERTISE TO BEAR THE RISKS ARISING FROM DEFICIENCY IN SERVICES, WHICH NEITHER 12A NOR 12B POSSESS. THUS EVEN IF A CUSTOMER RAISES ANY CLA IM ON 12A/12B, SUCH RISK WOULD BE EVENTUALLY PASSED ON TO THE ASSESSEE. 14. THERE IS CONTRACTUAL RELATIONSHIP AMONG THE ASS ESSEE, ITS SUBSIDIARIES AND THIRD PARTIES. THE SUBSIDIARIES, BASED ON AGREEMENT ENTERED INTO W ITH THE ASSESSEE, ENGAGE IN MARKETING OF THE IT SERVICE CAPABILITIES OF THE ASSESSEE IN THEI R RESPECTIVE COUNTRIES AND TRY TO WIN CONTRACT FOR PROVIDING IT SERVICES. ONCE A CUSTOMER IS IDENT IFIED, THE SUBSIDIARIES IN COORDINATION WITH THE ASSESSEE TRY TO WIN THE CUSTOMER CONTRACT. AS I T HAS BEEN EXPLAINED THROUGH THE SAMPLE CUSTOMER PROPOSALS, THE CUSTOMER IS MADE AWARE OF T HE ASSESSEES TECHNICAL EXPERTISE, EXPERIENCE, RESOURCE POOL ETC. FROM INITIAL STAGES OF THE PROPOSAL/BIDDING STAGE. ONCE THE CUSTOMER IS WON, THE SUBSIDIARIES DOWNLOAD THE NON- ADMINISTRATIVE SERVICES TO THE ASSESSEE. THERE MAY BE SOME CUSTOMERS WHO MAY NOT BE AT ALL W ILLING TO ENTER INTO A CONTRACT WITH THE SUBSIDIARIES AS THE SUBSIDIARIES ON A STAND-ALONE B ASIS MAY NOT BE FULFILLING THE CONDITIONS SET BY THE CUSTOMERS FOR AWARDING THE CONTRACT FOR PROV ISION OF IT SERVICES. HOWEVER, THESE CUSTOMERS MAY BE WILLING TO ENTER INTO A CONTRACT W ITH THE ASSESSEE AS IT HAS THE REQUISITE MAN POWER FOR PROVIDING IT SERVICES, VAST AND EXPERIENC ED RESOURCES POOL WITH EXPERTISE IN VARIOUS AREAS OF WORK, ADEQUATE SHARE CAPITAL FOR BEARING T HE RISK ARISING OUT OF THE CONTRACT, AVERAGE REVENUE OVER A PERIOD OF TIME, BRAND VALUE, REPUTAT ION IN THE MARKET, TRACK RECORD OF SUCCESSFUL PROJECTS, ETC. IN SUCH CASES, THE CONTRA CT IS ENTERED INTO BETWEEN THE CUSTOMER AND THE ASSESSEE BUT THE FUNCTIONS AND RISKS UNDERTAKEN BY BOTH THE ASSESSEE AND ITS SUBSIDIARIES REMAIN THE SAME AS THEY ARE WHEN THE CUSTOMERS ENTE R INTO THE CONTRACT WITH THE SUBSIDIARIES. LD. COUNSEL EXPLAINED THE CONCEPT OF CONDUCT OF TH E PARTIES AND RISKS ASSOCIATED WITH IT. HE REFERRED TO PARA 5.3.2.22 AND 5.3.2.23 OF THE UNITE D NATIONS PRACTICAL PRICING MANUAL ON TRANSFER PRICING FOR DEVELOPING COUNTRIES (PRACTIC E MANUAL) WHEREIN, ALLOCATION OF RISK AND CONDUCT OF PARTIES IS EXPLAINED THAT:- IT IS NOT ONLY NECESSARY TO IDENTIFY THE RISKS BUT ALSO TO IDENTIFY WHO BEARS SUCH RISKS. THE ALLOCATION OF RISKS IS USUALLY BASED ON THE CON TRACTUAL TERMS BETWEEN THE PARTIES. HOWEVER, CONTACTS BETWEEN ASSOCIATED ENTERPRISES MA Y NOT SPECIFY THE ALLOCATION OF ALL THE RISKS. EVEN WHERE A WRITTEN CONTRACT IS IN PLACE, AN ANALY SIS OF THE CONDUCT OF THE PARTIES IS CRITICAL IN ORDER TO DETERMINE WHETHER THE ACTUAL A LLOCATION OF RISK CONFORMS TO THE CONTRACTUAL RISK ALLOCATION WHEN ANALYSING THE ECONOMIC SUBSTANCE OF A TRANSAC TION, IT IS NECESSARY TO EXAMINE WHETHER THE CONDUCT OF THE ASSOCIATED ENTERPRISES O VER TIME HAS BEEN CONSISTENT WITH THE PURPORTED ALLOCATION OF RISK AND WHETHER CHANGE S IN THE PATTERN OF BEHAVIOUR HAVE BEEN MATCHED BY CHANGES IN THE CONTRACTUAL ARRANGEM ENTS (EMPHASIS ADDED) FURTHERMORE, IN RELATION TO CONTRACTUAL RELATIONSH IP AND CONDUCT OF THE CONTRACTING PARTIES, PARA 5.3.2.30 STATES THAT: THE CONDUCT OF THE CONTRACTING PARTIES IS GENERALLY A RESULT OF THE TERMS OF THE CONTRACT BETWEEN THEM. THE CONTRACTUAL RELATIONSHIP THUS WAR RANTS CAREFUL ANALYSIS WHEN COMPUTING THE TRANSFER PRICE. OTHER THAN A WRITTEN CONTRACT, THE TERMS OF THE TRANSACTIONS MAY BE FOUND IN CORRESPONDENCE AND COM MUNICATIONS BETWEEN THE PARTIES INVOLVED. IN CASES WHERE THE TERMS OF THE A RRANGEMENT BETWEEN THE TWO PARTIES ARE NOT EXPLICITLY DEFINED, THE CONTRACTUAL TERMS H AVE TO BE DEDUCED FROM THEIR ECONOMIC RELATIONSHIP AND CONDUCT. (EMPHASIS ADDED) 4 ITA NO. 550/KOL/2014 I.T.C. INFOTECH INDIA LTD., AY 2007-08 IT IS ALSO PERTINENT TO MENTION AT THIS JUNCTURE T HAT THE CONCEPT OF BUSINESS RISK IN TRANSFER PRICING CONTEXT HAS BEEN DISCUSSED AT LENGTH IN THE RECENT AMENDMENTS TO THE OECD TRANSFER PRICING GUIDELINES 2010 (HEREINAFTER REFERRED TO AS OECD GUIDELINES) UNDER THE NEW CHAPTER IX (TRANSFER PRICING ASPECTS OF BUSINESS RE STRUCTURING). AS PER THIS NEW GUIDANCE, PARA 9.10 PROVIDES THAT: RISKS ARE OF CRITICAL IMPORTANCE IN THE CONTEXT OF BUSINESS RESTRUCTURINGS. AN EXAMINATION OF THE ALLOCATION OF RISKS BETWEEN ASSO CIATED ENTERPRISES IS AN ESSENTIAL PART OF THE FUNCTIONAL ANALYSIS. USUALLY, IN THE OP EN MARKET, THE ASSUMPTION OF INCREASED RISK WOULD ALSO BE COMPENSATED BY AN INCR EASE IN THE EXPECTED RETURN, ALTHOUGH THE ACTUAL RETURN MAY OR MAY NOT INCREASE DEPENDING ON THE DEGREE TO WHICH THE RISKS ARE ACTUALLY REALIZED. UNDER PARA 9.11 AND 9.12: ... .. THE EXAMINATION OF RISKS IN AN ARTICLE 9 CO NTEXT STARTS FROM AN EXAMINATION OF THE CONTRACTUAL TERMS BETWEEN THE PARTIES, AS THOSE GENERALLY DEFINE HOW RISKS ARE TO BE DIVIDED BETWEEN THE PARTIES. CONTRACTUAL ARRANGE MENTS ARE THE STARTING POINT FOR DETERMINING WHICH PARTY TO A TRANSACTION BEARS THE RISK ASSOCIATED WITH IT ... .. ... A TAX ADMINISTRATION IS ENTITLED TO CHALLENGE T HE PURPORTED CONTRACTUAL ALLOCATION OF RISK BETWEEN ASSOCIATED ENTERPRISES IF IT IS NOT CO NSISTENCE WITH THE ECONOMIC SUBSTANCE OF THE TRANSACTION . THEREFORE, IN EXAMIN ING THE RISK ALLOCATION BETWEEN ASSOCIATED ENTERPRISES AND ITS TRANSFER PRICING CON SEQUENCES, IT IS IMPORTANT TO REVIEW NOT ONLY THE CONTRACTUAL TERMS BUT ALSO THE FOLLOWI NG ADDITIONAL QUESTIONS: WHETHER THE CONDUCT OF THE ASSOCIATED ENTERPRISES CONFORMS TO THE CONTRACTUAL ALLOCATION OF RISKS, WHETHER THE ALLOCATION OF RISKS IN THE CONTROLLE D TRANSACTION IS ARMS LENGTH, AND WHAT THE CONSEQUENCES OF THE RISK ALLOCATION ARE . SPECIFIC ATTENTION WAS DRAWN TO THE CONCEPT OF RIS K ALLOCATION AND CONTROL, ON WHICH PARA 9.22 AND 9.23 OF THE OECD GUIDELINES STATE THAT: IN THE ABSENCE OF COMPARABLES EVIDENCING THE CONSI STENCY WITH THE ARMS LENGTH PRINCIPLE OF THE RISK ALLOCATION IN A CONTROLLED TR ANSACTION, THE EXAMINATION OF WHICH PARTY HAS GREATER CONTROL OVER THE RISK CAN BE A RE LEVANT FACTOR TO ASSIST IN THE DETERMINATION OF WHETHER A SIMILAR RISK ALLOCATION WOULD HAVE BEEN AGREED BETWEEN INDEPENDENT PARTIES IN COMPARABLE CIRCUMSTANCES. IN SUCH SITUATIONS, IF RISKS ARE ALLOCATED TO THE PARTY TO THE CONTROLLED TRANSACTIO N THAT HAS RELATIVELY LESS CONTROL OVER THEM, THE TAX ADMINISTRATION MAY DECIDE TO CHALLENG E THE ARMS LENGTH NATURE OF SUCH RISK ALLOCATION. ...CONTROL SHOULD BE UNDERSTOOD AS THE CAPACITY T O MAKE DECISIONS TO TAKE ON THE RISK (DECISION TO PUT THE CAPITAL AT 5RISK)) AND DE CISIONS ON WHETHER AND HOW TO MANAGE THE RISK, INTERNALLY OR USING AN EXTERNAL PR OVIDER. THIS WOULD REQUIRE THE COMPANY TO HAVE PEOPLE EMPLOYEES OR DIRECTORS W HO HAVE THE AUTHORITY TO, AND EFFECTIVELY DO, PERFORM THESE CONTROL FUNCTIONS. TH US, WHEN ONE PARTY BEARS A RISK, THE 5 ITA NO. 550/KOL/2014 I.T.C. INFOTECH INDIA LTD., AY 2007-08 FACT THAT IT HIRES ANOTHER PARTY TO ADMINISTER AND MONITOR THE RISK ON A DAY-TO-DAY BASIS IS NOT SUFFICIENT TO TRANSFER THE RISK TO THA T OTHER PARTY. FURTHER, THE OECD GUIDELINES HAVE ALSO DISCUSSED ON THE ISSUE OF RISK ALLOCATION AND FINANCIAL CAPACITY IN PARA 9.29 9.30 AS FOLLOWS: ANOTHER RELEVANT, ALTHOUGH NOT DETERMINATIVE FACTO R THAT CAN ASSIST IN THE DETERMINATION OF WHETHER A RISK ALLOCATION IN A CON TROLLED TRANSACTION IS ONE WHICH WOULD HAVE BEEN AGREED BETWEEN INDEPENDENT PARTIES IN COMPARABLE CIRCUMSTANCES IS WHETHER THE RISKBARER HAS, AT THE TIME WHEN RISK IS ALLOCATED TO IT, THE FINANCIAL CAPACITY TO ASSUME (I.E TO TAKE ON) THE RISK. WHERE RISK IS CONTRACTUALLY ASSIGNED TO A PARTY (HE REAFTER THE TRANSFEREE) THAT DOES NOT HAVE, AT THE TIME WHEN THE CONTRACT IS ENTERED INTO, THE FINANCIAL CAPACITY TO ASSUME IT, E.G. BECAUSE IT IS ANTICIPATED THAT IT W ILL NOT HAVE THE CAPACITY TO BEAR THE CONSEQUENCES OF THE RISK SHOULD IT MATERIALISE AND THAT IT ALSO DOES NOT PUT IN PLACE A MECHANISM TO COVER IT, DOUBTS MAY ARISE AS TO WHETH ER THE RISK WOULD BE ASSIGNED TO THIS PARTY AT ARMS LENGTH. IN EFFECT, IN SUCH A SI TUATION, THE RISK MAY HAVE TO BE EFFECTIVELY BORNE BY THE TRANSFEROR, THE PARENT COM PANY, CREDITORS, OR ANOTHER PARTY, DEPENDING ON THE FACTS AND CIRCUMSTANCES OF THE CAS E, IRRESPECTIVE OF THE CONTRACTUAL TERMS THAT PURPORTEDLY ASSIGNED IT TO THE TRANSFERE E. BASED ON THE ABOVE OECD GUIDELINES AND PRACTICE MAN UALS, WE ARE OF THE VIEW THAT THE CONDUCT OF THE ASSESSEE AND ITS AES SHOULD BE GIVEN DUE COGNIZANCE WHICH IN THE ASSESSEES CASE IS SAME IN BOTH THE BUSINESS MODELS. THE ASSES SEE HAS ALSO EXPLAINED FROM THE TABLE, THAT THE FUNCTIONS PERFORMED AND THE RISKS ASSUMED BY TH E ASSESSEE AND ITS AES UNDER BOTH THE BUSINESS MODELS ARE THE SAME I.E. THE ASSESSEE UNDE RTAKES THE CORE DELIVERY FUNCTIONS AND ASSUMES THE SERVICE LIABILITY RISKS WHILE THE AES A RE ONLY ENGAGED IN MARKETING AND ADMINISTRATIVE FUNCTIONS. FURTHER, THE SAMPLE PROPOSAL DOCUMENTS SUBMITTED BY THE ASSESSEE ALSO VINDICATES THAT THE PROSPECTIVE CUSTOMERS ARE FULLY AWARE OF ASSESSEES TECHNICAL CAPABILITIES AND EXPERTISE WHILE AWARDING A CONTRACT AND EVEN IF THE ACTUAL CONTRACT IS EXECUTED BY THE AES, THE CUSTOMER WOULD PRESUMABLY NOT TEND TO BELIEVE THAT THE OFFSH ORE IT/SOFTWARE DEVELOPMENT SERVICES UNDER GLOBAL DELIVERY MODEL IS BEING RENDERED BY THE AES AND NOT THE ASSESSEE. HENCE, THE EXECUTION OF THE AGREEMENT DIRECTLY BY THE ASSESSEE OR BY THE AE WOULD NOT CREATE ANY SUBSTANTIAL DIFFERENCE IN THE SHARING OF FUNCTIONS OR RISKS BETWEEN THE PARTIES OR IN TURN, WOULD NOT CHANGE THE FUNCTIONAL CHARACTERISTIC OF THE PAR TIES. 15. NOW BEFORE US LD. COUNSEL EXPLAINED POSSIBLE CL AIM BY CUSTOMER FOR PROVISION OF SERVICES BY THE ASSESSEE AND 12A/12B THAT CLAIM FOR ANY DEFICIENCY IN ADMINISTRATIVE SERVIC E THAT THE POSSIBILITY OF A CUSTOMER RAISING ANY CLAI M FOR ANY DEFICIENCY IN ADMINISTRATIVE SERVICES SEEMS TO BE VERY REMOTE AS THE CUSTOMER IS NOT IMPACTED BY THE SERVICES WHICH ARE IN THE NATURE OF TRAVEL ARRANGEM ENTS AND LIASING BETWEEN THE CUSTOMER AND THE RESPONDENT. IT IS THE RESPONDENT W HO WOULD BE IMPACTED FOR ANY DEFICIENCY IN THE SERVICES PROVIDED BY THE SUBSIDIA RIES. THE ONLY AREA OF ANY PROBABLE DISPUTE AND CONSEQUENTIAL CLAIMS IS WITH REGARD TO NON-ADMINISTRATIVE SERVICES WHICH ARE BEING PROVIDED BY THE RESPONDENT U9NDE BOTH THE BUSINESS MODELS. 6 ITA NO. 550/KOL/2014 I.T.C. INFOTECH INDIA LTD., AY 2007-08 CLAIM FOR ANY DEFICIENCY IN NON-ADMINISTRATIVE SE RVICES THE LD. TPO, VIDE HIS ORDER, HAS ACKNOWLEDGED THE F ACT THAT THE MSA VERY CLEARLY ENVISAGE THAT THE SUBSIDIARIES WOULD SUB-CONTRACT T O THE RESPONDENT THE NON- ADMINISTRATIVE SERVICES AND THE PROVIDER OF THESE N ON-ADMINISTRATIVE SERVICES, I.E., THE RESPONDENT WOULD BE FULLY LIABLE TO THE USER, I.E., CUSTOMER FOR THE SAME. HE FURTHER SUBMITTED THAT IT HAS THE ADEQUATE CAPIT AL AND THE TECHNICAL EXPERTISE TO BEAR THE RISK THAT MAY ARISE FOR ANY DEFICIENCY IN THE SERVI CES PROVIDED TO THE CUSTOMERS. THE SUBSIDIARIES DO NOT HAVE ADEQUATE CAPITAL OR TECHNI CAL EXPERTISE TO BEAR SUCH A RISK. THUS, IN OUR VIEW, UNDER THE BUSINESS MODEL 2, AS PER TERMS OF THE MSA, IN CASE A CUSTOMER RAISES ANY CLAIM FOR NON-PERFORMANCE OF THE NON-ADMINISTRATIVE SERVICES, THE SUBSIDIARIES WOULD EVENTUALLY PASS ON SUCH RISK TO THE ASSESSEE AND TH E ASSESSEE HAS TO BEAR SUCH RISK. THE CUSTOMERS ENTER INTO CONTRACT WITH EITHER THE ASSES SEE OR THE SUBSIDIARIES FOR PROVIDING SOFTWARE DEVELOPMENT SERVICES. THE CONTRACTS ENTERE D WITH CUSTOMERS ALSO MENTION THE EXPECTED STANDARD OF SERVICES TO BE PROVIDED FOR SO FTWARE DEVELOPMENT WORK. IT IS THE INTERNAL ARRANGEMENT BETWEEN THE ASSESSEE AND THE SUBSIDIARI ES WHERE THE MARKETING AND THE ADMINISTRATIVE FUNCTIONS ARE PERFORMED BY THE SUBSI DIARIES UNDER BOTH THE BUSINESS MODEL. THE SUBSIDIARIES PROVIDE THE MARKETING AND THE ADMINIST RATIVE SERVICES TO THE ASSESSEE AND NOT TO THE CLIENTS. THUS, IN BOTH THE BUSINESS MODEL THE R ISK PROFILES OF THE SUBSIDIARIES REMAIN THE SAME. FURTHER, IN COURSE OF THE CONTRACT NEGOTIATIO N AND MAPPING OF THE SCOPE OF WORK, THE CUSTOMER IS FULLY AWARE OF THE UNDERLYING DELIVERY MECHANISM, SINCE TECHNICAL CAPABILITIES OF THE ASSESSEE ARE ALWAYS SHOWCASED AND PRESENTED BEF ORE THE CUSTOMER. THEREFORE THE CUSTOMER BASED ON THEIR INDIVIDUAL PREFERENCES AND DRIVEN BY THE CONSIDERATIONS, WHICH ARE EXCLUSIVELY THEIR OWN, CHOOSES TO ENTER INTO CONTRACT WITH 12A / 12B OR THE ASSESSEE, WHICH DOES NOT MAKE ANY ESSENTIAL VARIATION IN THE BUSINESS MODEL AS A GLOBAL ORGANISATION. INVOICING IS THE DERIVATIVE OF THE METHODOLOGY PROPOSED TO BE PURSUE D BY THE RESPECTIVE CLIENT WHO AWARDS THE ASSIGNMENT. THE PROSPECTIVE CUSTOMER IS ALSO FULLY AWARE OF THE FINANCIAL STANDING OF 12A / 12B VIS-A-VIS THE ITC INFOTECH GROUP EVEN WHILE ENT ERING INTO SERVICE CONTRACT WITH 12A / 12B IN VIEW OF THE FACT THAT EVERY SERVICE PROPOSAL SPE CIFICALLY HIGHLIGHT THE TECHNICAL STRENGTH AND THE FINANCIAL STRENGTH OF THE ASSESSEE WHICH PLAYS ITS PIVOTAL ROLE BEFORE THE CLIENTS WHILE ENTERING INTO A CONTRACT WITH 12A / 12B. HENCE, THE PRESUMPTION OF THE TPO THAT THE OVERSEAS CUSTOMERS DECISION TO ENTER INTO CONTRACTS DIRECTL Y WITH 12A OR 12B ARE ESSENTIALLY GOVERNED BY THE STANDALONE FINANCIAL OR TECHNICAL STRENGTHS OF THESE ENTITIES DEVOID OF THE BACKUP OF THE ASSESSEES FINANCIAL / TECHNICAL STRENGTHS, IS INAP PROPRIATE AND WITHOUT ANY BASIS. 16. FURTHER, IN RELATION TO QUANTIFICATION OF RISK ADJUSTMENT, WE ARE OF THE VIEW THAT THE EXERCISE OF RISK ADJUSTMENT IS NOT A SIMPLE EXERCIS E. A LOT OF RESEARCH HAS BEEN CARRIED OUT IN THIS FIELD OF ECONOMICS OVER THE YEARS, AS A RESULT OF WHICH VARIOUS THEORIES HAVE EVOLVED, THAT HAVE BEEN APPLIED ACROSS BUSINESSES TO QUANTIFY THE INHERENT BUSINESS RISKS. HOWEVER, THE SUBJECT OF RISK EVALUATION AND QUANTIFICATION HAS C ONTINUED TO BE AN AREA OF EXTENSIVE STUDY AND RESEARCH. THE ASSESSEE VIDE SUBMISSION DATED 11TH OCTOBER, 20 09 BRIEFLY DISCUSSED ONE SUCH CONCEPT IN THE AREA OF RISK MANAGEMENT I.E., TOWARDS RISK EVAL UATION AND QUANTIFICATION. IN CASE OF THE ASSESSEE, THERE IS AN INHERENT TRANSFER OF RISK BY 12A / 12B TO THE ASSESSEE VIDE THE MSA IN RELATION TO CASES WHERE THE CUSTOMER CONTACTS DIREC TLY WITH THESE. AES AND THERE ARE FINANCIAL CLAIMS RELATING TO THE QUALITY OF DELIVERABLES. SUC H A TRANSFER OF RISK THROUGH CONTRACTUAL ARRANGEMENT IS A COMMON RISK MANAGEMENT PRACTICE IN COMMERCIAL WORLD AND SHOULD BE DULY RECOGNIZED. THE TPO MADE ADJUSTMENT BY DETERMINING A DIFFERENT REVENUE SPLIT [15% OR 13% AS THE CASE MAY BE] FROM THE ONE FOLLOWED BY THE RE SPONDENT AND 12A / 12B. SUCH AN ADJUSTMENT MADE BY THE TPO WAS WITHOUT ANY BASIS OR ANALYSIS. IN RELATION TO DIFFERENCE IN CLAUSES IN THE MSA BETWEEN THE ASSESSEE AND 12A AS REFERRED TO BY THE TPO FOR MAKING AN AD- 7 ITA NO. 550/KOL/2014 I.T.C. INFOTECH INDIA LTD., AY 2007-08 HOC ADJUSTMENT, THE ASSESSEE FURTHER DREW OUR ATTEN TION TOWARDS CLAUSES 4A (III) AND CLAUSE 4B (II) OF THE MSA WHICH PROVIDES FOR THE SAME EFFE CT IN RELATION TO EXCLUSION OF CERTAIN ADMINISTRATIVE SERVICES TO BE PERFORMED, CLAUSE 4B (II) PROVIDES THAT: IF INFOTECH US SUBCONTRACTS ITS OBLIGATION IN ACCO RDANCE WITH THIS CLAUSE 4(B), THE PARTIES AGREE THAT THE PROVISIONS OF CLAUSE 5(I II) TO (V) INCLUSIVE SHALL NOT APPLY AND THAT A FEE EQUAL TO 75% OF THE REVENUE DERIVED UNDE R THE APPLICABLE CUSTOMER CONTRACT FROM NON-ADMINISTRATIVE SERVICES PROVIDED BY THE RE SPONDENTS EMPLOYEES SHALL BE PAID BY INFOTECH US I.E 12A TO THE RESPONDENT. FURTHER, THE ASSESSEE ALSO CALCULATED THE EFFECT OF ADJUSTMENT ON PROFITABILITY OF ITC INFOTECH GROUP TAKING INTO CONSIDERATION THE RISK ADJUSTMENT ENVISAGED BY TPO FOR THE AY 2006-07 AND SUBMITTED THAT BOTH 12A AND 12B WOULD MAKE LOSSES A T NET LEVEL IF THE RISK ADJUSTED PRICING MODEL, AS PROPOSED BY THE TPO WERE PUT IN ACTUAL PR ACTICE. THUS THE RISK ADJUSTED BUSINESS MODEL AS PROPOSED BY THE TPO WOULD RESULT IN AN ABS URD SITUATION FROM 12A / 12BS PERSPECTIVES DEFEATING THE CONCEPT OF STABLE POSITI VE RETURN FOR A LOW RISK TESTED PARTY. IN THE LIGHT OF THE ABOVE, WE ARE OF THE VIEW TAKI NG INTO COGNIZANCE THE BUSINESS MODEL OF THE ASSESSEE ALONG WITH THE FUNCTIONS UNDERTAKEN AND RI SKS ASSUMED BY THE ASSESSEE AND ITS SUBSIDIARIES, THE FACTS AND WRITTEN SUBMISSION MADE DURING THE COURSE OF THE PROCEEDINGS FOR BOTH THE AYS 2005-06 & 2006-07, THAT THE TPO TOTALL Y ERRED IN MAKING TRANSFER PRICING ADJUSTMENTS IN THE CASE OF ASSESSEE IN BOTH THE AYS . IN VIEW OF FACTS AND CIRCUMSTANCES, WE ARE OF THE VIEW THAT THE TPO JUST ON THE BASIS OF CONJU NCTURES AND SURMISES MADE THIS TRANSFER PRICING ADJUSTMENTS. HENCE, WE DISMISS THIS COMMON ISSUE OF REVENUES APPEALS IN BOTH THE AYS. 4. WE TAKE NOTE THAT THE TRIBUNALS ORDER (SUPRA) C ONFIRMING THE LD. CIT(A)S ACTION HAS BEEN UPHELD AT THE LEVEL OF THE HONBLE HIGH CO URT WHEREIN THE HONBLE HIGH COURT BY ORDER DATED 08.01.2016 FOR BOTH THE ASSESSMENT YEAR S IN GA NO. 2314 OF 2015 AND 2318 OF 2015 WAS PLEASED TO UPHOLD THE ACTION OF THE TRIBUN AL BY HOLDING AS UNDER: THE SUBMISSION OF THE APPELLANT THAT THE ADJUSTME NT OF TPO TOWARDS ACCOUNT OF MANAGEMENT CHARGES IS ARBITRARY HAS BEEN DEALT BY THE FIRST AS WELL AS THE SECOND APPELLATE AUTHORITY AND A CONCURRENT FINDING OF FACT HAS BEEN RECORDED THAT THE TPO IN PRINCIPLE ACCEPTED THE REMUNERATION MODEL OF 25% REVENUE SHARING AND THE S AME HAS BEEN SUBSTANTIATED AND JUSTIFIED BY THE DOCUMENTS SO SUBMITTED BEFORE THE AUTHORITIES BELOW. FURTHER, THE GENUINENESS OF THE DOCUMENTS WHICH WERE RELIED ON BY THE AUTHOR ITIES HAVE NOT BEEN DOUBTED BY THE DEPARTMENT. THUS, IN VIEW OF THE ABOVE, WE DO NOT FIND ANY ILLE GALITY AND INFIRMITY IN THE ORDERS AND FURTHER WE ARE OF THE OPINION THAT A CONCURRENT FIN DING OF FACT ON THE BASIS OF THE DOCUMENTS ON RECORDS WAS RECORDED BY THE FIRST APPELLATE AUTHORI TY AS WELL AS THE SECOND APPELLATE AUTHORITY. ACCORDINGLY, NO QUESTION OF LAW ARISES OUT OF THE J UDGMENT RENDERED BY THE AUTHORITIES BELOW. THE APPEALS ARE DEVOID OF MERITS AND THE SA ME ARE DISMISSED ACCORDINGLY ALONG WITH THE APPLICATIONS BEING GA NO. 2314 OF 2015 AND GA N O. 2318 OF 2015 RESPECTIVELY. 8 ITA NO. 550/KOL/2014 I.T.C. INFOTECH INDIA LTD., AY 2007-08 5. THEREFORE, RESPECTFULLY FOLLOWING THE ORDER OF T HE HONBLE HIGH COURT IN AYS 2005- 06 AND 2006-07 AND TAKING NOTE OF THE HONBLE JURIS DICTIONAL HIGH COURT DECISION IN ASSESSEES OWN CASE, SUPRA, WE CONFIRM THE ORDER OF THE LD. CIT(A) AND DISMISS THIS GROUND OF APPEAL OF THE REVENUE. 6. NEXT GROUND OF APPEAL WAS RAISED BY THE REVENUE. THE LD. SR. COUNSEL DREW OUR ATTENTION TO THE FACT THAT THIS ISSUE HAS ALSO BEEN ADJUDICATED BY THE TRIBUNAL FOR AY 2005-06 AND 2006-07 WHEREIN ALSO THE TRIBUNAL UPHELD THE AC TION OF THE LD. CIT(A) ON SIMILAR FACTS AND CIRCUMSTANCES OF THE CASE. ACCORDING TO LD. SR . COUNSEL, THIS ACTION OF THE TRIBUNAL HAS NOT BEEN APPEALED BY THE DEPARTMENT BEFORE THE HON BLE HIGH COURT AND SO, ACCORDING TO HIM THE DEPARTMENT HAVE ALREADY ACCEPTED THE ACTION OF THE LD. CIT(A)/TRIBUNAL ON THIS ISSUE AND HE DREW OUR ATTENTION TO PARA 17 TO 19 OF THE TRIBUNALS ORDER WHICH IS REPRODUCED AS UNDER: 17. THE NEXT COMMON ISSUE IN THESE TWO APPEALS OF REVENUE IS AGAINST THE ORDER OF CIT(A) DELETING THE DISALLOWANCE OF SOFTWARE EXPENSES. FOR THIS FOLLOWING GROUND NO. 4 IS RAISED IN AY 2005-06 READS AS UNDER:- 4. THAT ON THE FACTS & CIRCUMSTANCES OF THE CASE T HE LD. CIT(A) ERRED IN DELETING THE ADDITION OF RS.6897876/- MADE ON PURCHASE OF SOFTWA RE IN THE HEAD OPERATING & MANUFACTURING EXPENSES WRONGLY INTERPRETING IT AS AN EXPENSE REVENUE IN NATURE WHEREAS THE EXPENDITURE IS OF CAPITAL NATURE. 18. WE HAVE HEARD RIVAL CONTENTIONS AND GONE THROUG H FACTS AND CIRCUMSTANCES OF THE CASE. WE FIND THAT THE AO MADE DISALLOWANCE OF SOFTWARE E XPENSES IN AYS 2005-06 & 2006-07 AMOUNTING TO RS.68,97,876/- & 9,67,408/- RESPECTIVE LY. BUT CIT(A) DELETED BY HOLDING THE SOFTWARE EXPENSES TO HAVE BEEN INCURRED FOR THE PUR POSES OF BUSINESS NOT RESULTING IN ANY ENDURING BENEFIT. AGGRIEVED, NOW REVENUE IS IN SECO ND APPEAL BEFORE TRIBUNAL FOR BOTH AYS. 19. WE FIND THAT DURING THE AYS 2005-06 & 2006-07, THE ASSESSEE INCURRED EXPENDITURE IN CONNECTION WITH THE PURCHASE OF SOFTWARE. THE ASSES SEE IS ENGAGED IN THE BUSINESS OF SOFTWARE DEVELOPMENT AND THIS SOFTWARE WAS ACQUIRED BY IT IN CONNECTION WITH CLIENT PROJECTS. THE SOFTWARE ACQUIRED WAS APPLICATION SOFTWARE. DURING ASSESSMENT PROCEEDINGS ALSO THE ASSESSEE ASKED AS TO WHY SUCH SOFTWARE EXPENSES SHOULD NOT B E TREATED AS CAPITAL EXPENDITURE AND IT EXPLAINED TO AO IN DETAIL ABOUT THE SOFTWARE ACQUIR ED AND THE BUSINESS NECESSITY OF SUCH SOFTWARE. IT WAS EXPLAINED THAT THE SOFTWARE ACQUIR ED WERE APPLICATION SOFTWARE WHICH WERE BEING USED BY THE ASSESSEE FOR ITS BUSINESS OF DEVE LOPING SOFTWARE FOR IT CLIENTS AND DID NOT RESULT IN ANY ENDURING BENEFIT. EVEN NOW BEFORE US ALSO IT WAS EXPLAINED THAT THE EXPENDITURE ON PURCHASE OF SOFTWARE REPRESENTED APPLICATION SOF TWARE EXCLUSIVELY USED FOR THE PURPOSE OF THE BUSINESS AND HENCE THESE WERE TREATED AS REVENU E EXPENSES IN LINE WITH THE PRINCIPLES ENUNCIATED IN SECTION 37(1) OF THE ACT. THESE APPLI CATION SOFTWARE, HAVE GOT A LIMITED USEFUL LIFE AND ARE USED AS TOOLS OF BUSINESS LIKE ANY OTH ER COMPONENT OR CONSUMABLE ITEM USED FOR THE PURPOSE OF EARNING REVENUE THOUGH APPLICATION I N THE PROCESS OF CUSTOMER SERVICING AND 9 ITA NO. 550/KOL/2014 I.T.C. INFOTECH INDIA LTD., AY 2007-08 DOES NOT RESULT IN ANY ENDURING BENEFIT. IT IS ALSO IMPORTANT TO NOTE THAT IT IS NEITHER A STAND ALONG PROFIT GENERATING APPARATUS NOR AN INCOME DRI VING STRUCTURE SO AS TO CLASSIFY THE EXPENDITURE INCURRED TOWARDS THE SOFTWARE AS ONE ON CAPITAL ACCOUNT. THE APPLICATION SOFTWARE, BEING THE SUBJECT MATTER OF APPEAL, ASSIS T THE ALREADY SET-UP BUSINESS VIDE ENHANCING ITS EFFICIENCY AND HENCE CAN BE RELIABLY RELATED TO BEING ON REVENUE ACCOUNT. LIST OF SOFTWARE PURCHASED ARE ENCLOSED IN ASSESSEES PAPER BOOK FOR AYS 2005-06 & AY 2006-07. ON PERUSAL OF THE SAME, WE FIND THAT THE PARTIES FROM WHOM THE SOFTWARE WAS ACQUIRED WERE INTERWOVEN, MERCURY INTERACTIVE (SINGAPORE) PVT. LIMITED, SONAT A INFORMATION TECHNOLOGY AND TATA CONSULTANCY SERVICES. ALL THESE COMPANIES SPECIALIZ E IN APPLICATION SOFTWARE WHICH HELPS IN INCREASING THE EFFICIENCY OF CLIENT DELIVERABLE. TH E DETAILS OF PAYMENTS MADE TO M/S INTERWOVEN CLEARS THAT THESE ARE TOWARDS PAYMENT FOR RENEWAL O F SOFTWARE WHICH THE ASSESSEE WAS USING FOR CLIENT DELIVERABLES. IN VIEW OF THESE FACTS, WE ARE OF THE VIEW THAT SOFTWARE EXPENSES ARE REVENUE IN NATURE AND ALLOWABLE U/S 37 OF THE ACT. WE DISMISS THIS COMMON ISSUE OF REVENUES APPEALS. 7. THE LD. DR COULD NOT CONTROVERT THE FACT THAT TH E REVENUE HAS NOT FILED ANY APPEAL BEFORE THE HONBLE HIGH COURT AGAINST THE DECISION OF THE TRIBUNAL (SUPRA) ON THIS ISSUE AND THE DEPARTMENT HAVE ACCEPTED THE VIEW OF THE LD. CI T(A)/TRIBUNAL ON THIS ISSUE. THEREFORE, RESPECTFULLY FOLLOWING THE ORDER OF THE TRIBUNAL IN AY 2005-06 AS WELL AS TAKING NOTE OF THE HONBLE JURISDICTIONAL HIGH COURT DECISION IN INDIA N ALUMINIUM CO. LTD. VS. CIT REPORTED IN (2016) 384 ITR 386 (CAL) WHEREIN THE HONBLE HIG H COURT HAS HELD THAT SOFTWARE DEVELOPMENT EXPENDITURE WHICH WAS APPLICATION SOFTW ARE WAS REVENUE IN NATURE, AND ALSO THE FACT THAT THE REVENUE HAS ACCEPTED THE VIEW OF THE LD. CIT(A)/TRIBUNAL ON THIS ISSUE, WE CONFIRM THE ACTION OF THE LD. CIT(A) AND DISMISS TH IS GROUND OF APPEAL OF REVENUE. 8. IN THE RESULT, THE APPEAL OF REVENUE IS DISMISSE D. ORDER PRONOUNCED IN THE OPEN COURT ON 5 TH DECEMBER, 2018. SD/- SD/- (M. BALAGANESH) (A. T. VARKEY) ACCOUNTANT MEMBER JUDICIAL MEMBER DATED: 5 TH DECEMBER, 2018 JD.(SR.P.S.) 10 ITA NO. 550/KOL/2014 I.T.C. INFOTECH INDIA LTD., AY 2007-08 COPY OF THE ORDER FORWARDED TO: 1 APPELLANT ITO, WARD-2(3), KOLKATA 2 RESPONDENT M/S. I.T.C. INFOTECH INDIA LTD., VIRGI NIA HOUSE, 37, J. L. NEHRU ROAD, KOLKATA-700 071. 3 4 5 CIT(A) -VI, KOLKATA CIT , KOLKATA. DR, KOLKATA BENCHES, KOLKATA (SENT THROUGH E-MAIL) / TRUE COPY, BY ORDER, SR. PVT. SECRETARY